Investing in Human Behavior – Be Emotionally Unattached
In my last two posts, I discussed a few major components that influence how I manage money. First, I highlighted three ideas that broadly frame the rest of my philosophy:
- Avoid the Noise – Markets are noisy. Focus on long-term results and pay little attention to day to day price movements.
- Diversify – To increase chances of success, make many small bets with favorable odds rather than few large bets with favorable odds.
- Keep an Open Mind – Sometimes markets aren’t favorable to a particular style. When that happens, play defense and wait for better opportunities.
Last week I built on those core tenants to highlight the biggest drivers of my behavioral investment style; value and momentum. I am drawn to behavioral investing for two major reasons:
- I have high conviction that human behavioral biases will always be a part of markets.
- I can explain the concepts behind this investment style to my clients in a relatively straightforward way.
The final piece I want to touch on in regards to my investing is the glue that holds everything together: the process. Just because I invest based on behavioral phenomena, doesn’t mean that I don’t have biases of my own. We all do. The key to taking advantage of these behaviors is having a rules-based process to manage investments. Without a process, it becomes too easy to question yourself and in turn, investing becomes emotional. Emotions often lead to irrational behavior, which is something I want to avoid at all costs.
With very few exceptions, I stay away from non-quantitative investment strategies. If an investment manager doesn’t have a clear, repeatable process behind his decisions, I’m not interested. I’m much more comfortable betting on a good idea wrapped in a strictly followed system than betting on the emotions and hunches of others.
I don’t invest in a company because there’s a good story.
I don’t invest in a company because I really like it.
I don’t invest in market fads.
The company name doesn’t matter to me. All that matters is how the investment stacks up based on numbers and the process. This allows me to be emotionally unattached to all investments and clearly make decisions based on the evidence in front of me.
Last weekend, I met somebody at a wedding who had a friend in the financial advisory business. He told me his friend was always stressed about the market and really lets it consume him. As somebody who has spent time trading and worrying about the daily grind of making money in the markets, I could not imagine managing client money that way. As an advisor, it is my responsibility to have a clear head and make the best decisions possible for my clients. Dealing with constant stress from investments certainly wouldn’t put me in a position to perform the job I’m hired to do.
I’ve spent a great deal of time researching and building an investment process that I have high conviction in. The process allows me to stay the course. Am I disappointed when my clients are losing money? Definitely. But does that affect how I will make my next investment decision? Absolutely not. This is a long-term game and I do everything I can to make sure my clients understand that. Client education plays such a large role in my success because I believe the better a client understands how I invest, the more comfortable they are with their investments. Helping clients achieve that peace of mind is not only beneficial for them, but having an informed, unstressed client also makes my job a lot easier.
I hope my thoughts over the last three weeks have painted a clear picture as to how I view investing. I’ve laid out the major themes that have shaped my investment style without getting into the granular details that would bore many. My goal was to introduce people to a different way of thinking about investments. While there are countless ways to make money in the markets, quantitative behavioral investing has resonated most strongly with me. There is little doubt in my mind that this style will be a major part of investment philosophy for years to come.
This is part 3 of a 3 part series on Investing in Human Behavior